Thursday, December 16, 2010

QE and Stocks: The Japanese Experience

Since QE2 was pre-announced in late August, stocks have been on a tear. They pulled back a bit when QE2 was announced in early November, but have since continued to rise. Many people believe they will continue to rise as long as the Fed continues QE. The Japanese experience would agree. This chart (courtesy The Casey Report) shows how a massive dose of QE lifted stocks, which promptly fell back when QE was ended after a one-quarter lag:

What seems different this time than with Japan is the meltdown in Treasuries. Could that scuttle the stock rally? Casey Research thinks not. Alex Daley, Casey’s Extraordinary Technology, comments:

[I] do see at least one compelling reason to stay net long in equities right now: The wheels are coming off the bond market.

And that means money is flowing into equities in a major way. Excess liquidity, especially in the sheer proportions now flowing into the stock markets, tends to drive up asset prices. And the stock markets are seeing liquidity at levels not seen in years. ...

[S]ince the beginning of 2009, the net inflows to bond funds have been more than 11x (!) the inflows into stock funds. But as you can see from this graph, that trend is deteriorating rapidly. It’s such an about face that, bond inflows have gone negative for the first time since the crash (and at that time they were only negative because every asset class saw massive withdrawals):

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And let's not forget the Idiot States. These are states where it is just one circle jerk after another. States that have managed themselves are going to be attractive to people who have done the same during their working lives:

This is really the dent / prechter arguement in full blown color. Think of a couple in their 50's with the last kid through school. Does anyone really believe they will hang on to their massive housing mortgage for the next 5 to 10 years? Or jump in to a bigger mortgage and fuel another round of house building? The math doesn't work:

You assume that a couple in their 50's have a massive mortgage. My guess is that they bought their home YEARS BEFORE the real estate "bubble".

They may not be feeling a need to "trade-up" anytime soon, and in fact are most likely to either stay put, or be looking to invest in a "vacation" property as their retirement years come onto the horizon and they seek to downsize.

Either way you slice it, it is not the "Doomsday" scenario that the Prechter's of the world advocate.

You may have a point. Maybe people now in their 50's didn't use their homes as ATM machines afterall. However, if 10 to 20 percent did indeed do that, then that is more than enough to throw a massive fluck into RE and its relatives for the next several years. But I agree that eventually the price mechanism will clear this market as well. It just remains to be seen how much public debt is created along the way.

Either way you slice it, cash will buy a lot more RE next year than it did last year.

Refer to my last post: "H&S in H&S?", suggesting an impending Head & Shoulders short-term top in the Hang Seng (HSI) & Straits Times (STI) Indices. Here are the updated charts.

The HSI has given up on 22600 after a bit of a struggle. Note the volume spike on the last decline. As the hourly is oversold - and we're at the neckline -, a short-term bounce is possible here. A break below the neckline on higher volume, will add strength to the H&S picture with an eventual target around below 21000.

The STI seems to be holding up better, and has not yet reached the neckline. Declining volumes are not high either. However, should this change, we're looking at an eventual target around 2900.

A break above the shoulder line will negate these scenarios. Remember, H&S patterns need not always work out. Weigh the probabilities, and place your stops accordingly.

Yes, there is obviously some switching going on from bonds to the equities. However, I think its limited how far it can go especially with the amount of leverage in the system. Just over 10% of listed Chinese companies currently deliver return on invested capital rates of above 5%. You factor in a reasonable cost of equity of 10% how many companies can actually handle higher debt costs which would be the consequence of the transition from bonds to stocks?? There are just too many companies out there that shouldn't be in business now.

Leading Economic Indicators +1.1% in November. Fed-Ex seeing volumes +13% over last year at this time. Joy Global sees greater demand coming from North America (not just from China) as aftermarket sales for their mining equipment increased 16% and there was a 53% jump in order bookings. Retail Sales on the way to having its best Holiday Season since 2006. Goldman turns bullish on the Economy for the first time in 5 years ...

The Perma-Bears just don't get it.
Global economic growth is accelerating.

Is Prechter still short from SPX 1000 from early August 2009? Now he's talking about 1291 SPX being possible?

How's David Rosenberg doing these days at Gluskin-Sheff? Wonder if he even shows up to their annual Xmas Party... He's been flat-oput WRONG for the last 400 S&P points. Does he still have a job???

JT & Michael:
We do have a problem, though: too many bulls, too many
optimistic predictions from the "experts". The market needs
a real shake out to make the "experts" shut up or, even better,
sing their bear raps again. Then the market can move way
higher on more solid basis.
K.D.

i haven't posted on here for several months because someone else was using my name and posting comments.
george

roger d.
i advise that you take a look at the large cap 300 percent short fund etf symbol bgz. it is backing up some of what you are saying at least an intermediate correction is coming.
i would not go so far as saying the prechter wave but it should be pretty profitable.
wave 1 july 1st to middle of august.
wave 2 mid august to end of august.
wave 3 end of august to middle of
november.
wave 4 contracting triangle mid november to end november.
wave 5 end of november to current
date of december 17
nice divergences on several osillators indicating wave 5 is
being completed.
the question is it might not start
declining until january once the holiday slow period is over.
also sell on good news on wall street the bush tax cuts are still in force.
i am short using 10 strike call options on bgz 300 percent inverse fund as of the week ending december 17.
george

For the last 4 days the Dow has gone above 11,5K and failed to close above it. On Friday the dow spent the last 135 minutes(15 minute candles) trying to close above the level but failed. Just a observation.

The USD/EURO is the key here. The GBP has a H&S pattern and the UK-FTSE mirrors that currently.

I'm sure I am the only one that believes since the dot.com crash in 2000 that some stocks remained in their uptrends completeing a supercycle irregular bull market. Both these charts of AZO and MCD are examples of my theory. If correct this would be a amazing example of Elliot wave theory that most would find unimaginable. The efforts of central banks led by our Fed to target equity price advance for a false positive "wealth effect" would fit perfectly. As I have said repeatedly this would be the "great unification" wave down,as the stocks ending their irregular bull markets would join those that topped in 2000 and 2007.